On February 4, 2019, the Executive Board of the
International Monetary Fund (IMF) concluded the Article IV consultation
[1] with Australia.

Australia has advanced further in its economic rebalancing after the
end of the mining investment boom of the 2000s. Economic growth picked
up to rates above that of potential output in the first half of 2018,
with solid private and public consumption and residential investment
more than offsetting the drag from delays in public investment plans
and drought. Growth slowed down somewhat in 2018Q3. Labor market
conditions also improved, with strong employment growth and declining
unemployment.

The housing market has been cooling after a long boom. The cooling
since mid-2017 reflects a number of factors, including the bottoming
out of interest rates globally, the weakening of foreign and domestic
investor demand, and the tightening of lending standards and bank
capital requirements. The housing market correction is helping housing
affordability, but accumulated vulnerabilities related to house prices
and debt levels remain high. On the supply side, progress has been made
in using City Deals, agreements across all levels of government that
integrate planning and infrastructure delivery for new developments and
redevelopments.

The fiscal policy stance has been supportive, with increased
infrastructure spending. The Commonwealth government deficit has
narrowed to 0.3 percent of GDP and should move into surplus in
FY2019/20. The authorities have accelerated the lowering of the company
tax rate for small companies with a turnover of up to A$50 million to
25 percent by FY2021/22 and set up a schedule for cutting personal
income taxes and rationalizing the tax brackets over the next seven
years. This should maintain a tax-to-GDP ceiling at the federal level
of 23.9 percent of GDP while protecting its commitment to a budget
surplus of 1 percent of GDP over the business cycle as a medium-term
fiscal anchor.

The monetary policy stance remains accommodative, with the current
policy rate being on hold at 1.5 percent since August 2016 and
inflation hovering just below the lower end of the Reserve Bank of
Australia’s (RBA’s) target range of 2-3 percent. The cash rate setting
implies a real policy rate of zero relative to estimates of the real
neutral interest rate in the range of 1-2 percent.

Australian banks are well capitalized and profitable. In 2018Q3
compared with end-2017, banks’ regulatory capital to risk-weighted
assets ratio remained stable at 14.7 percent, and the return on assets
increased by 0.2 percentage point to 1.4 percent. The ratio of liquid
assets to total assets remained relatively stable at 17.2 percent in
2018Q3. Stress tests under Financial Sector Assessment Program (FSAP),
conducted in parallel with the Article IV consultation, found banks to
be resilient to solvency and liquidity stress but also noted the
vulnerability to external funding shocks, given that banks’ wholesale
funding accounts for about one-third of total liabilities, of which
two-thirds are from external sources.

The Australian Prudential Regulatory Authorities (APRA) continues to
put strong emphasis on sound lending standards, and conditional on a
bank’s assurance about such standards, it removed caps limiting
investor and interest-only lending in 2018. The capital adequacy
framework for banks was further refined in 2018, with APRA establishing
a framework and timeline for introducing a minimum leverage ratio for
Australian banks and proposing changes to increase banks’ loss
absorbing capacity.

Recent structural policy efforts have focused on addressing
infrastructure gaps, research and development (R&D), tax reform,
and energy policy. Federal and state governments have ramped up
infrastructure spending further, adding around 0.5 percent of GDP per
year in the 2018 budgets and updates over the next 3 years. The federal
government has reformed the system of R&D tax incentives to make it
more efficient. They have also cut personal income and company taxes as
outlined above. Energy sector reform for reliability issues has
proceeded at federal and state levels, and the government remains
committed to meeting its Paris Agreement obligations.

Executive Directors commended the authorities for their sound
macroeconomic management and strong policy framework which have
contributed to over two decades of robust and resilient economic
performance. Directors noted that although growth is expected to remain
above trend in the near term, a weaker global economic environment,
high household debt, and vulnerabilities in the housing sector could
weigh on medium‑term growth. Against this background, they highlighted
the importance of maintaining supportive macroeconomic policies to
secure stronger demand momentum, address macrofinancial risks, and
boost long‑term productivity and potential growth.

Directors agreed that continued macroeconomic policy support is
essential until full employment and the inflation target are firmly
within reach. They considered monetary policy to be appropriately
accommodative in the current circumstances and advised that policy
normalization should depend on firmer upward pressures on prices.

Directors welcomed the supportive fiscal policy stance. They commended Australia’s infrastructure investment boost
as a critical source of demand in the near term. Directors also
welcomed the authorities’ prudent medium‑term fiscal plans, targeting
budget surpluses from FY2019/20. The principle of running budget
surpluses in good times has been an important anchor for fiscal
discipline in Australia. Directors generally considered that a
medium‑term debt anchor could further help strengthen the medium‑term
fiscal strategy. Noting the uncertainty about the recent strength in
revenues, Directors encouraged the authorities to exercise prudence in
approving permanent tax cuts or expenditure increases.

Directors agreed that the macroeconomic policy response needs to be
flexible. They noted that given limited conventional monetary policy
space, discretionary fiscal stimulus may need to complement monetary
easing in the event downside risks materialize. Most Directors noted
that Australia’s substantial fiscal space could be utilized for further
increases in high‑quality infrastructure spending to boost potential
growth. At the same time, a number of Directors noted that the fiscal
space could be preserved as a buffer to deal with shocks.

Directors welcomed the authorities’ macroprudential interventions to
reduce credit risk and reinforce sound lending standards. They
concurred that, with high prices for residential real estate along with
elevated household debt, macroprudential policies should hold the
course on the improved lending standards and further strengthen bank
resilience by refining the capital adequacy framework. Directors also
saw merit in expanding and strengthening the macroprudential toolkit to
allow for more flexible responses to financial stability risks.

Directors welcomed that Australia’s financial system remains
fundamentally sound. They supported the FSAP recommendations to
strengthen systemic risk oversight of the financial sector. They
generally noted that the quality of supervision would be further
bolstered by strengthening enforcement powers to support effective risk
management and by making additional investment in data and analytical
tools. Directors encouraged the authorities to strengthen the
integration of systemic risk analysis and stress testing with
supervisory processes, complete the resolution framework, and expedite
the development of bank‑specific resolution plans.

Directors underscored the need to remain vigilant about housing market
developments. They noted that while the housing market correction is
helping housing affordability, continued housing supply reforms remain
critical for broad affordability and to reduce macrofinancial
vulnerabilities. Directors generally encouraged the authorities to
explore, where possible, alternative and effective non‑discriminatory
measures for buyers.

Directors stressed that to lift productivity and longer‑term growth,
sustained structural policy efforts will be needed. These should focus
on continuing to close macro‑critical gaps in infrastructure, greater
female labor force participation, research and development,
sustainability of energy policy, as well as broad tax reform. Directors
welcomed the authorities’ commitment to openness and trade and their
participation in the Comprehensive and Progressive Agreement for
Trans‑Pacific Partnership.

2/ Reflects the national accounts measure of household
debt, including to the financial sector, state and federal
governments and foreign overseas banks and governments. It
also includes other accounts payable to these sectors and a
range of other smaller entities including pension funds.

3/ Calendar year.

[1]
Under Article IV of the IMF's Articles of Agreement, the IMF holds
bilateral discussions with members, usually every year. A staff
team visits the country, collects economic and financial
information, and discusses with officials the country's economic
developments and policies. On return to headquarters, the staff
prepares a report, which forms the basis for discussion by the
Executive Board.

[2]
At the conclusion of the discussion, the Managing Director, as
Chairman of the Board, summarizes the views of Executive Directors,
and this summary is transmitted to the country's authorities. An
explanation of any qualifiers used in summings up can be found
here:
http://www.imf.org/external/np/sec/misc/qualifiers.htm.